EM Quick Take： Risk premia in Israel’s local markets

Investment Rating - The report indicates that risk premia in Israel's local markets are currently viewed as sufficient, with a strong likelihood of intervention from the Bank of Israel if geopolitical tensions escalate further [1][14]. Core Insights - Risk premia in Israel's local markets are on par with or exceed levels observed in October 2023, reflecting heightened geopolitical risks [1][4]. - The USDILS spot is trading significantly above its fair value, with a deviation of 17%, the highest since October 2023 [4][14]. - The spread of 10-year ILGOVs to 10-year USTs has reached 95 basis points, the widest in 10 years, and 124 basis points above the average spread since 2015 [1][14]. - The Bank of Israel is expected to intervene in the FX market if USDILS approaches 4.00, similar to the $8.2 billion sold in October 2023 [1][14]. - Current yields on 10-year ILGOVs are considered 3-4 standard deviations cheap compared to forward-looking fair value estimates [17][19]. Summary by Sections FX Market Analysis - The USDILS is trading with a significant deviation from fair value, indicating a demand for USD liquidity [4][8]. - FX implied yields have dropped significantly below the Bank of Israel's policy rate, suggesting market stress [8][10]. Bond Market Insights - The 10-year ILGOV yield has increased by 21 basis points to 4.95%, underperforming compared to global trends [14][19]. - The 10-year ILGOV ASW spreads are at 39 basis points, well above the long-run average of 8 basis points since 2012 [14][16]. - Bottom-up models suggest that current bond yields are 94 basis points cheap to end-2024 fair value and 125 basis points cheap to mid-2025 fair value [17][19]. Market Expectations - The market is pricing only a modest 50 basis point cutting cycle for the Bank of Israel, contrasting with expectations for a deeper Fed easing cycle [19][20]. - The persistently rising spread of market-priced BoI-Fed policy rate spreads indicates elevated front-end ILS rates premia [19][20].